BoE holds rates despite fears of a downturn

BoE is more concerned about rising inflation than economic stagnation. (AP)

By

Ayman Ali

PublishedSunday, June 08, 2008

As expected widely by economists and analysts in London, Bank of England (BoE) left interest rates unchanged at five per cent in its monthly meeting.

The decision came along with new pessimistic figures about United Kingdom housing market from lenders and developers. Such news left the Labour government with more headaches concerning the economy that it claims to have kept constantly growing for a decade.

Chancellor of the Exchequers Alistair Darling is facing a daunting task to manage the declining economy ahead of a possible general election in 2010. The news came just a day after Organisation of Economic Co-operation and Development (OECD) warned of a slower growth in UK economy this year, and more next year.

Despite calls from some business sectors to cut interest rates to boost economic activity, BoE was concerned more about rising inflation. Rate of inflation in Britain reached three per cent in April, a full percentage point more than the official target of two per cent. Rising energy and commodities prices are adding more inflationary pressures that the central bank could not ignore, so it was unable to loosen its monetary policy and risking feeding more inflation into the economy.

In addition to the inflation concern, BoE is aware of downturn pressures on the wider economy but would not take a decision that might worsen the medium term prospects even if it has short-term temptations. The current trend should be left to settle without leaving any underlying ills.

In its half-yearly report, OECD remarked that BoE might leave the rates unchanged for the rest of the year and start easing next year when inflation drops. It added that UK economy was headed for a significant downturn. The OECD said UK growth would slow to 1.8 per cent in the current year and to 1.4 per cent in 2009. It expected the eurozone economy to grow by 1.7 per cent in 2008 and 1.4 per cent in 2009.

According to OECD, three factors were hurting the UK and world economy: weakening property markets, a global credit crisis and high commodity costs. Though the report suggests the worst of the credit crunch might be over – at least for the banking sector – implications for the wider economy are yet to be assessed. In the UK, like the US, the property sector problems are affecting the whole economy. Declining house prices, though a correction necessity, result in less consumer spending hurting prospects for growth.

Latest figures from Halifax, Britain's biggest mortgage lender, showed house prices fell 2.4 per cent in May to leave them 3.8 per cent lower year-on-year. The figures are consistent with other lenders' data, like those of Nationwide. In addition, low-cost house builder Bellway warned of a bigger than expected fall in annual sales after reservations this spring fell nearly a third as buyers struggled to get mortgages. Its warning was the latest in a series led by Persimmon, Britain's biggest house builder by market value, which said in April that its sales so far in 2008 were 24 per cent down.

Besides the indications of these figures that the housing market is declining, it has another impact on employment as building companies are poised to lay off workers due to drop in activity.